How Is Interest Calculated On A Personal Loan?

interest loan calculation

A personal loan is money that is borrowed normally at a fixed interest rate from a financial institution or another type of lender over a short term.

A short term is normally between one and three years. The loan amount that is awarded can be used to fund any purchase, consolidate debt or for just about any other reason.

In most cases, no reason for the loan is required and no security or collateral is necessary for approval.

An establishment fee may, however, apply which is the cost of setting up the loan.

This amount is normally added to the principal loan amount and paid off over the same term or period as the loan.

Monthly or weekly instalments or repayments may be applicable.

What Is Interest On A Personal Loan?

Interest is a percentage of the principal loan amount that the lender charges in order for it to be profitable.

In Australia, the government regulated annual percentage rate is 48% for a personal loan which means that a lender must not charge interest in excess of 48%.

How Is Interest On A Personal Loan Calculated??

There are 3 important factors that need to be considered when calculating the amount of interest that you will need to pay on a monthly basis – the interest rate, the repayment term and the principal loan amount.

For example:

A loan of $2,000 that is taken over a period of 12 months at an APR of 48% with monthly repayments will be calculated as follows:

Divide the interest rate by 100 – 48% divided by 100 = 0.48

Divide this amount by the term of the APR which is 12 months – 0.48 divided by 12 = 0.04

Multiply this amount by the principal loan amount which is $2,000 – 0.04 multiplied by $2,000 = $80

You will be paying $80 in interest every month with a total interest of $960 on a $2,000 loan over one year.

Interest cannot be charged on an establishment fee that has been added to the principal loan amount.

How To Calculate A Monthly Repayment

Take your principal loan amount and divide it by the term of the loan and this will give you your monthly instalment without interest.

Add the interest and you will arrive at the figure that you will need to repay on a monthly basis.

Using the above example:

$2,000 divided by 12 = $166.67

Add you interest as calculated above to this amount – $166.67 + $80 = 246.67

You will be paying a total monthly repayment of $246.67

If an establishment fee (let’s say $400 for use in this example) is added to the principal loan amount and spread over the term, the calculation will be as follows:

Principal loan amount + establishment fee – $2,000 + $400 = $2,400

Divide this amount by the term (12 months) – $2,400 divided by 12 = $200

Add the interest as calculated above to this amount – $200 + $80 = $280

You will be paying a total of $280 every month for 12 months to repay the loan.

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Visit our application page and see if you qualify today.

Additional Reading:

The Difference Between Good and Bad Debt

4 Simple Ways To Repay A Personal Loan Sooner

How To Put Debt To Work For Your Business

Case For Borrowing Money Instead

8 Mistakes You Should Avoid When You Get A Small Business Loan